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Better Buy: Twitter Inc. vs. LinkedIn Corp.

One has more potential, the other is more established. Who will win?

Where's the best investment in social media? We'll look at two options. Image source: Yoel Ben-Avraham, via Flickr.

Social media has exploded over the past 10 years. In fact, it's tough to believe that giants like Twitter (NYSE:TWTR) and LinkedIn (NYSE:LNKD.DL) haven't even been around for 20 years -- and have been well-known to average Americans for an even shorter amount of time.

Both companies are now well-established players in their respective domains. But when it comes to their stocks, which is the better buy today? That's a tough question, and there's really no definitive answer on the issue. But below, I'll walk you through three criteria I look for when evaluating such stocks and look to find out which appears to be a better bet.

Financial fortitudeIt's easy to get caught up in rosy predictions for the direction that any company could head. But at the end of the day, that's all they are: predictions. What a company has in the bank -- and what it owes its debtors -- are equally important.

During tough financial times, those with little cash on hand and lots of debt are forced to cut back on operations -- or even declare bankruptcy. Those sitting on a nice cushion, however, can take advantage by acquiring competitors, gaining market share, and even purchasing back lots of its own stock.

That's why I consider all four of these metrics to be important in measuring a company's financial fortitude.

Cash

Debt

Net Income

Free Cash Flow

Twitter

$3.5 B

$1.6 B

($521 M)

$36 M

LinkedIn

$3.1 B

$1.1 B

($166 M)

$300 M

Net income and free cash flow are on a trailing-12-month basis. Data source: Yahoo! Finance, E*Trade.

Both companies really come out at about the same point. They don't have enormous cash reserves, but more than enough -- relative to their debt -- to keep them afloat if tough times hit. While both are technically losing money as well, this is largely because of stock options that are granted to employees.

As things currently sit, LinkedIn has stronger financial fortitude, as the company is solidly free cash flow (FCF) positive, whereas Twitter only achieved this status in 2015 for the first time as a public company.

Winner = LinkedIn

ValuationValuing companies that are technically still net income negative can be a tough thing to do. That's why I like to use non-GAAP results -- as they back out employee stock options -- and include four very broad measures of value when comparing these two companies.

Here's how they stack up.

P/E

P/FCF

P/S

PEG Ratio

Twitter

39

294

5

0.6

LinkedIn

38

48

5

1.3

Data source: Yahoo! Finance, E*Trade.

Both of these stocks are still relatively expensive on a price-to-earnings basis, especially considering that both have lost over half of their market cap since 2015 highs. If we take a closer look, a clearer picture emerges. While Twitter looks ridiculously expensive on a P/FCF basis, that's because the company just became FCF positive, and isn't really a fair indicator.

With each company having the same price-to-sales ratio, the PEG -- or price-to-earnings growth -- ratio is the determining factor.

While LinkedIn has three revenue streams, it's most important one is Talent Solutions -- which helps companies find the right potential hires. Recently, there's been significant worry about slowed growth within the division, and that's likely why analysts still think the company is expensive -- as it has a PEG of over 1 -- with 1 being "fairly valued."

Twitter, on the other hand, relies almost entirely on advertising for revenue. Though there are bigger fish in that pond, the migration of ad dollars from print media to mobile is huge and undeniable, and that's likely why the stock is considered undervalued -- and why I'll give it the nod here.

Winner = Twitter

Sustainable competitive advantagesThere's no variable I've found that plays a bigger role in the success of an investment than sustainable competitive advantages (SCA). Both of these companies have -- in my humble opinion -- the most important SCA working for them: the network effect.

With each person that signs up for Twitter, there is more incentive for others to join the network, which provides more incentive for advertisers to use the platform. The same can be said for LinkedIn: When a new individual or companies starts participating, there's more incentive for others to participate.

This is the epitome of a virtuous economic cycle.

But we also have to consider competitors and business momentum here as well. Twitter has had a very difficult time growing its user base recently, and without more users, the network effect is starting to stall. LinkedIn, on the other hand, is having no problem adding both more individual users and more businesses to its roll call. Therefore, I'm giving the nod here to LinkedIn.

Winner = LinkedIn

So there you have it. Although this is far from an exhaustive analysis of these two companies, LinkedIn appears to be a much better buy today for your money.

Brian Stoffel owns shares of LinkedIn and Twitter. The Motley Fool owns shares of and recommends LinkedIn and Twitter. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Author

Brian Stoffel has been a Fool since 2008, and a financial journalist for the Motley Fool since 2010. He tends to follow the investment strategies of Fool-founder David Gardner, looking for the most innovative companies driving positive change for the future. Follow @TMFStoffel